Lessons From The Gurus of Value Investing
“I am constantly looking for and learning from value investing gurus -James Montier, Howard Marks & Michael Mauboussin “ , Mr. S. Naren, CIO, ICICI Prudential AMC
This beautiful short article by Mr Naren aptly brings out the tenets of a successful Value Investor and couldn't help sharing with you all.
What I learned from the legends of value investing
Montier’s ten tenets
Value, Value, Value
It is one thing to manage a close-ended fund in perpetuity like Warren Buffett, and another to manage open-end funds like ours where investors can invest or redeem quickly enough. Hence, apart from learning a lot from Buffett whose value investing ideas are unparalleled, I am constantly looking for and learning from value investing gurus who also focus on open ended funds, and run them too. One of the first gurus I am inspired by has been James Montier. “Often you don’t know what to do. But you create a portfolio as though you think you know,” he said. In one chapter of his book on value investing, he explains the tenets of value investing. Practically everything you and I need to know about investing is in those tenets.
Value investors do not look at macroeconomic factors. But I have noticed that in the last five years, like when Warren Buffett famously invested, were when the macro economy (or top down) was at its worst. At the height of the Lehman Brothers fiasco, he invested in GE and Goldman preference shares. In 2011, he invested in Bank of America preference shares.
While he did not look at “top down” per se, the macro-economic environment ensured that the gap between the price and intrinsic value was so high that it was worthwhile then to invest. So value investors actually use “top down” to determine the appropriate time for the wide gap between price and intrinsic value.
Be contrarian
Prices are set by buyers/sellers. Too many buyers push prices up; too many sellers push them down. With too many sellers, buying is easy. The price is set by sellers. Again, I have observed that if you want great investor experience, then one has to be able to buy when there is extreme pessimism.
Be patient
This is no secret, but perhaps, it is very difficult to practice. If you are in a close ended structure, then patience comes automatically. But in an open-ended fund environment, investors get impatient, and I have seen that this is not good for investor experience. Wait for one’s investments to come home.
Be unconstrained
Sometimes one has to go beyond different or standard asset classes to get good portfolio results. Each asset class can be inexpensive at different times. Sometimes, global equities are inexpensive; sometimes debt; quality stocks; sometimes small and mid-cap stocks; and sometimes commodity. In 2007, all quality consumer and pharmaceutical stocks were inexpensive. If you were “unconstrained”, it was easy to buy them. All different asset classes can be inexpensive at one time or another, so one has to look beyond the benchmark for good investor experience.
Don’t forecast
Six months ago we did not know crude would be around $50. Almost everyone had a view on crude oil, but not a clue that Brent would be below $60 in six months. Such situations have happened in various asset classes and currencies as well. In August 2013, when the rupee touched Rs. 68 to a dollar, everyone forecast that it would hit 75. Currently, a year later when other currencies have slipped against the dollar, the rupee is getting strong. So, again, do not forecast.
Be skeptical
The more skeptical we are, the more we avoid mistakes. Be skeptical, not cynical. When looking at any data, we need skepticism. In 2007, those who were skeptical did well. So we have to be skeptical when allocating money. It works.
Cycles matter
I have often noticed that most people do not grasp market cycles. This happens across all asset classes. At the peak, people are extremely bullish; at the bottom, bearish. Three or four years ago they said that the dollar was finished. But look where it is now. We periodically traverse cycles, and fund managers’ jobs are to navigate such.
Treat your clients as you treat yourself
One of the key things about fund management business is to be able to understand what the market is telling you and how you would navigate the market when you invest your own funds. So, if you treat clients as you treat yourself, and how would you manage your own money, everyone benefits.
History matters
Today the price of crude has slumped and countries are in trouble. There have been situations in the past where similar things have happened. So I always look at history for guidance, and to focus on tomorrow.
What I learned from Howard Marks
The second guru from whom I learnt much is Howard Marks, and one can read his writings on www.OakTreeCapital.com. He does not use financial jargon and that is his beauty. One can easily follow what he writes, and learn a lot from him, and even try to make money over a long spell. Respect cycles In classic Marks’s style, and I can vouch that I have found the analogy of the pendulum fascinating. At certain times, the pendulum swings positive. At the other extreme, it is pessimistic. In both situations you have to act against it. Oftentimes, however, it is in the middle. No sense then in extreme positive or negative views. In the last ten years, we have seen such type of pendulum-like swings in all asset classes like in fixed income, equity, real estate or foreign exchange. Recognize such cyclicality.
Risk is a function of price
I like this one too. Assume you are buying the best company in the world at very high price, it is a high-risk investment. On the flipside, distressed assets, which have turned inexpensive, are therefore low risk. I have seen this happen in various benchmarks over time. In 2000, information technology constituted a huge proportion of the benchmark. In 2007, infrastructure and telecoms had high weights. So, benchmark constituents are good indications of price and you can see if investors are taking greater risk. Here what Marks states is spot on: if you focus on price you can buy a consumer company and lose money. Or you can buy a distressed real estate company and make money.
Either you are trying to make money or trying not to lose it
The third thing which most people do not realize (this applies even to fund managers) is, as Marks states, sometimes you have to try to make money. A year back if you were trying to make money by investing in small and mid-caps, you actually made much. Whereas, last year, if you were trying not to lose money and invested in the safest stocks (consumer goods, healthcare), you actually managed not to lose money. Most times, you have to decide whether you are trying to make money or trying not to lose it. As fund managers, our goal is to decide where we are. The clearer we are on where we are, the greater difference it makes to our investments. In 2007, if you tried not to lose money, you actually benefited in 2008. Whereas, if you tried to make money, you did (in 2007) but lost it in 2008. So, somewhere as wealth managers, as fund managers, as people managing your money, we have to be clear about whether we are trying to make money or trying to not lose it.
Investing is common sense. Controlling emotions, however, is key
Over time, everyone recognizes that investing requires a great deal of common sense. That sounds easy. But the problem is control of emotions. That is difficult, particularly in a bubble. In 2000, to avoid buying information technology stocks was difficult. In 2007, not buying infrastructure stocks was difficult. It was commonsensical that the price-to-earnings ratios of information technology stocks such as Infosys and Wipro in 2000 was above 100. (Source: Bloomberg) Similarly in 2007 in infrastructure stocks. Controlling emotions is the biggest task in the long run.
What I learned from Michael Mauboussin
Do a pre-mortem
The most intriguing insight was gained during the general elections in 2013. We conducted a post-mortem about what we had done before the election. We realized that how we handled the elections was not quite right. Mauboussin says “Do a premortem”, assume what might happen. So, in 2013, when we did a “pre”-mortem, equity was then a good asset class. The pre-mortem suggested that we had to make much effort then to get money into equity. And this came through a premortem. Approach investing with the various options before you. What are the possible mistakes? People would then tend to be less emotional. It is useful if people discuss mistakes. So a “pre”-mortem approach helps avoid many mistakes.
Happy Investing
“I am constantly looking for and learning from value investing gurus -James Montier, Howard Marks & Michael Mauboussin “ , Mr. S. Naren, CIO, ICICI Prudential AMC
This beautiful short article by Mr Naren aptly brings out the tenets of a successful Value Investor and couldn't help sharing with you all.
What I learned from the legends of value investing
Montier’s ten tenets
Value, Value, Value
It is one thing to manage a close-ended fund in perpetuity like Warren Buffett, and another to manage open-end funds like ours where investors can invest or redeem quickly enough. Hence, apart from learning a lot from Buffett whose value investing ideas are unparalleled, I am constantly looking for and learning from value investing gurus who also focus on open ended funds, and run them too. One of the first gurus I am inspired by has been James Montier. “Often you don’t know what to do. But you create a portfolio as though you think you know,” he said. In one chapter of his book on value investing, he explains the tenets of value investing. Practically everything you and I need to know about investing is in those tenets.
Value investors do not look at macroeconomic factors. But I have noticed that in the last five years, like when Warren Buffett famously invested, were when the macro economy (or top down) was at its worst. At the height of the Lehman Brothers fiasco, he invested in GE and Goldman preference shares. In 2011, he invested in Bank of America preference shares.
While he did not look at “top down” per se, the macro-economic environment ensured that the gap between the price and intrinsic value was so high that it was worthwhile then to invest. So value investors actually use “top down” to determine the appropriate time for the wide gap between price and intrinsic value.
Be contrarian
Prices are set by buyers/sellers. Too many buyers push prices up; too many sellers push them down. With too many sellers, buying is easy. The price is set by sellers. Again, I have observed that if you want great investor experience, then one has to be able to buy when there is extreme pessimism.
Be patient
This is no secret, but perhaps, it is very difficult to practice. If you are in a close ended structure, then patience comes automatically. But in an open-ended fund environment, investors get impatient, and I have seen that this is not good for investor experience. Wait for one’s investments to come home.
Be unconstrained
Sometimes one has to go beyond different or standard asset classes to get good portfolio results. Each asset class can be inexpensive at different times. Sometimes, global equities are inexpensive; sometimes debt; quality stocks; sometimes small and mid-cap stocks; and sometimes commodity. In 2007, all quality consumer and pharmaceutical stocks were inexpensive. If you were “unconstrained”, it was easy to buy them. All different asset classes can be inexpensive at one time or another, so one has to look beyond the benchmark for good investor experience.
Don’t forecast
Six months ago we did not know crude would be around $50. Almost everyone had a view on crude oil, but not a clue that Brent would be below $60 in six months. Such situations have happened in various asset classes and currencies as well. In August 2013, when the rupee touched Rs. 68 to a dollar, everyone forecast that it would hit 75. Currently, a year later when other currencies have slipped against the dollar, the rupee is getting strong. So, again, do not forecast.
Be skeptical
The more skeptical we are, the more we avoid mistakes. Be skeptical, not cynical. When looking at any data, we need skepticism. In 2007, those who were skeptical did well. So we have to be skeptical when allocating money. It works.
Cycles matter
I have often noticed that most people do not grasp market cycles. This happens across all asset classes. At the peak, people are extremely bullish; at the bottom, bearish. Three or four years ago they said that the dollar was finished. But look where it is now. We periodically traverse cycles, and fund managers’ jobs are to navigate such.
Treat your clients as you treat yourself
One of the key things about fund management business is to be able to understand what the market is telling you and how you would navigate the market when you invest your own funds. So, if you treat clients as you treat yourself, and how would you manage your own money, everyone benefits.
History matters
Today the price of crude has slumped and countries are in trouble. There have been situations in the past where similar things have happened. So I always look at history for guidance, and to focus on tomorrow.
What I learned from Howard Marks
The second guru from whom I learnt much is Howard Marks, and one can read his writings on www.OakTreeCapital.com. He does not use financial jargon and that is his beauty. One can easily follow what he writes, and learn a lot from him, and even try to make money over a long spell. Respect cycles In classic Marks’s style, and I can vouch that I have found the analogy of the pendulum fascinating. At certain times, the pendulum swings positive. At the other extreme, it is pessimistic. In both situations you have to act against it. Oftentimes, however, it is in the middle. No sense then in extreme positive or negative views. In the last ten years, we have seen such type of pendulum-like swings in all asset classes like in fixed income, equity, real estate or foreign exchange. Recognize such cyclicality.
Risk is a function of price
I like this one too. Assume you are buying the best company in the world at very high price, it is a high-risk investment. On the flipside, distressed assets, which have turned inexpensive, are therefore low risk. I have seen this happen in various benchmarks over time. In 2000, information technology constituted a huge proportion of the benchmark. In 2007, infrastructure and telecoms had high weights. So, benchmark constituents are good indications of price and you can see if investors are taking greater risk. Here what Marks states is spot on: if you focus on price you can buy a consumer company and lose money. Or you can buy a distressed real estate company and make money.
Either you are trying to make money or trying not to lose it
The third thing which most people do not realize (this applies even to fund managers) is, as Marks states, sometimes you have to try to make money. A year back if you were trying to make money by investing in small and mid-caps, you actually made much. Whereas, last year, if you were trying not to lose money and invested in the safest stocks (consumer goods, healthcare), you actually managed not to lose money. Most times, you have to decide whether you are trying to make money or trying not to lose it. As fund managers, our goal is to decide where we are. The clearer we are on where we are, the greater difference it makes to our investments. In 2007, if you tried not to lose money, you actually benefited in 2008. Whereas, if you tried to make money, you did (in 2007) but lost it in 2008. So, somewhere as wealth managers, as fund managers, as people managing your money, we have to be clear about whether we are trying to make money or trying to not lose it.
Investing is common sense. Controlling emotions, however, is key
Over time, everyone recognizes that investing requires a great deal of common sense. That sounds easy. But the problem is control of emotions. That is difficult, particularly in a bubble. In 2000, to avoid buying information technology stocks was difficult. In 2007, not buying infrastructure stocks was difficult. It was commonsensical that the price-to-earnings ratios of information technology stocks such as Infosys and Wipro in 2000 was above 100. (Source: Bloomberg) Similarly in 2007 in infrastructure stocks. Controlling emotions is the biggest task in the long run.
What I learned from Michael Mauboussin
Do a pre-mortem
The most intriguing insight was gained during the general elections in 2013. We conducted a post-mortem about what we had done before the election. We realized that how we handled the elections was not quite right. Mauboussin says “Do a premortem”, assume what might happen. So, in 2013, when we did a “pre”-mortem, equity was then a good asset class. The pre-mortem suggested that we had to make much effort then to get money into equity. And this came through a premortem. Approach investing with the various options before you. What are the possible mistakes? People would then tend to be less emotional. It is useful if people discuss mistakes. So a “pre”-mortem approach helps avoid many mistakes.
Happy Investing
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